Q3 Market Outlook Webinar: The Presidential Election, Inflation, Stocks, and More

Welcome to our third quarter market outlook. We’re gonna be talking about the Fed, stocks, inflation, and portfolios in an election year, and a lot of other things as we take your questions and answers.

I’m Cara Duckworth. I’m the managing director of client experience at Mercer Advisors, and I am very delighted to be joined today by Don Calcagney, our chief investment officer.

Hello, everybody. Thank you for joining us today.

Got a lot to cover, but it’s important to note, that all of this information that we are providing is an informational nature only for your educational purposes, and it should not be construed to be personal financial advice or specifically tailored to your personal financial situation.

For details on how this applies to you, your portfolio, and your financial plan, please contact your Mercer advisers wealth adviser.

So, Dawn, so many things that are top of mind here. I I know that we took questions from folks as they registered, and thank you so much for all of you that that sent us in so many great questions. We’re also gonna be taking questions live today as well. So if you had those as we go along, please submit them into the q and a function, which you should find at the bottom of your screen.

We’re gonna get to as many questions as we possibly can, and as we go through. So, Don, I’m gonna turn it over to you. These are all of the questions that were submitted to us, and I I know also the things that we’re hearing both as you and I talk to clients on a daily basis, as our advisors talk to everyone, that these seem like things that I’m sure are swirling around in our clients’ minds. So I’m gonna turn it over to you to to jump into these.

Yeah. No. Absolutely. And thank you again, everybody, for giving us, some of your some of your precious time today.

Yeah, Cara, we’re gonna touch on a lot of different topics. And so we went through, we read all of the questions that, that all of you have submitted ahead of time. And, like Cara said, we look forward to also answering your questions live that you submit, through the q and a function.

And so, what we did is we took all those questions, we dropped them into, to a word cloud, tool. And and what you see here on the screen, these are these are a lot of the different topics that are on the minds of our clients, markets, interest rates, politics.

Certainly, we are in a very interesting election, year, an election cycle. So, Kara, we will do our absolute best to very carefully thread the needle, on on on today’s call and just stick to to the facts. That’ll be our that’s our mission. We’re gonna try to do that.

And so I think it’ll I think it’ll be a fun conversation. Hopefully, it’s very informative, for all of our all of our listeners. So, so I’m gonna do my best as I go through the slides here and highlight, economic and market data to try to connect those with many of the questions that that you many of our listeners have submitted to us. So I’ll try to do that, and then, Carrie, you can always, you know, raise those here towards the end if if, if maybe I missed one or two of those.

So Will do.

So let’s begin with this question around the market. Right? Equity markets have been hitting new highs fairly recently, but valuations are also high. And markets have become very concentrated. So I wanna touch on that, and what does that really mean for us as investors, and how should we be thinking about that?

Before I do, let’s just touch on some very high level economic data. You know, what’s happening in the world, what’s happening in the US economy, and so on and so forth. So inflation has continued to come down very slowly, however. We had a very good inflation number last month where it came in at three percent.

I have some more data that I’ll walk you through here, but inflation has come down dramatically. And, again, there’s a difference between inflation, disinflation, and deflation. So when I say inflation has come down, I don’t mean that prices have come down. What I mean is that the growth rate in prices has come down. That’s what we call disinflation.

Deflation is when prices actually decline. Okay? So I just wanna be clear. I don’t want people to misinterpret what I’m saying here.

Interest rates still remain at very high levels, five and a half percent for what we call the Fed Funds rate. Look, this is great for those of you who have savings accounts or money market funds. I mean, we all love seeing these higher interest rates on our cash savings, especially those of us who’ve, you know, been tortured over the past two decades or I should say decade and a half with near zero interest rates. So, you know, seeing these higher interest rates, you know, for savers is a good thing.

However, for borrowers, it’s also very painful. Right? For those, you know, perhaps who have mortgages or young couples who are trying to buy homes for the first time. You know, those higher interest rates can be can be quite painful.

The US Federal Reserve, I won’t spend too much time on this, but their balance sheet, which is the digital dollars that they have printed to inject into the US economy over the past decade and a half. That has come down. Right? So back in during the the global financial crisis, they printed cash between two thousand nine and two thousand, fifteen and injected that cash into the economy to support the economy.

They also did that, to help combat COVID, right, in March of twenty twenty. That balance sheet has begun to shrink. As the bonds that the Fed owns have matured, they’ve been deleting dollars from the US economy. So you can see that that has come down quite nicely.

I would argue this is a good thing, seeing the Federal Reserve shrink its balance sheet.

US stocks, at least as measured by the S and P five hundred, continue to do very well. Like I said, hit new highs. We’re gonna we’ll talk about that here in a few moments.

This particular manufacturing index, I won’t spend too much time on it, but this suggests, this number of forty eight point seven, suggests that the US economy, in theory, should be in a recession, but we’re not. Objectively, we know that the US economy continues to grow, but the manufacturing part of the US economy looks like it might be shrinking a little bit. And then, Kara, we also had some questions on the US dollar. And so before we leave this slide, I’ll I’ll touch on that. The US dollar continues to be the world’s preferred global reserve currency. Nearly sixty percent of all central bank reserves around the planet are held in US dollars.

So it is objectively true that the US dollar continues to be that king currency that most central banks on the planet want to hold. If you really think about it critically for a moment, there’s no other currency around the planet that is really a safe haven. It’s certainly not the Chinese yuan. It’s certainly not the Russian ruble.

And so the US dollar still continues to be the world’s preferred reserve currency. The US dollar has risen in value as much as forty percent since twenty ten. It has since come down a little bit since its peak in September of twenty twenty two. It’s come down about six percent since then.

Year to date, it’s up another three and a half percent. So the US dollar by any objective measure is is still very strong. It’s actually a little too strong in some ways, in that it makes our exports more expensive to the rest of the world that would like to buy US produced goods and services.

But the US dollar by any objective measure, still the world’s preferred currency, very strong. Now’s the time. If you wanna go to Italy or somewhere like that, or Greece, now’s the time to do that, because your dollars, your US greenbacks will certainly go further.

Alright?

Just a couple of more, you know, high level overview date talking points on the economy.

You know, home prices continue to be quite strong and many of us for many of us, that seems a little counterintuitive, Cara. Right? Like, how is it that home prices could be so high when interest rates on mortgages have gone up quite dramatically.

This is really a supply and demand imbalance coming in the aftermath of the global financial crisis in two thousand and eight. A lot of home builders really stepped back on production. And so for the better part of a decade to fifteen years, the United States we simply didn’t build enough homes to keep up with demand. And so what that has resulted in is a fundamental imbalance between supply and demand.

Almost to the point to where home prices in many local markets are operating independently of what’s actually happening in interest rate markets. For example, the interest rates on the thirty year US mortgage. And so that’s why and I feel bad for these young couples that naturally are trying to buy homes and you know they’re seeing seven and a half, eight percent, mortgage interest rates. And of course home prices are still quite lofty.

The commercial real estate sector, I know many of you had questions about commercial real estate, is a completely different animal. And in fact, it’s in many ways the opposite.

We have far too much commercial real estate in this country given this new hybrid work from home reality that so many companies have adopted in the wake of COVID.

And so I I’m not bullish. In fact, I’m quite bearish on what’s gonna happen in commercial real estate. We are beginning to see some pretty steep declines in the prices of some really high quality commercial real estate in big markets like New York and San Francisco and places like that. So, commercial real estate, completely different story relative to the story in residential real estate.

We’ll touch on inflation in a little bit. Unemployment has ticked up ever so slightly here just recently. And in fact, when we look at inflation coming down, when we look at unemployment beginning to tick up, in many ways, the market has interpreted that to mean that the Fed is getting closer to perhaps cutting interest rates, and we’ll talk about that here as well in a few moments. And what does that really mean for investments?

The economy, the US economy, like I said, it continues to grow. One point four percent real, that means inflation adjusted GDP growth over the last quarter. US economy continues to really be the workhorse of the world economy, especially for developed markets. So the US economy in many ways has really defied gravity over the past several years despite high interest rates, despite supply chain disruptions, and so on and so forth. Again, in the wake of COVID, the US economy has continued to really motor ahead in ways that have been quite spectacular.

Consumer settlement.

For whatever reason, all of us as Americans, we’re just not happy. We are not happy about where the economy is, and, I think that might have more to do with the political season that we’re in at the moment. But I’m not an expert in in social psychology.

What I would say is consumer sentiment tends to swing quite a bit depending on just how we feel about prices at the gas pump or prices at the grocery store. And I think it kind of follows that, you know, when you look at these bread and butter items that we consume every day, that, yeah, we’re not feeling very good about the economy when you’re paying four dollars a gallon for gasoline in my home state of Pennsylvania. So, and I won’t spend too much time on this, but there’s a variety of economic indicators that we at Mercer Advisors on the investment team are constantly monitoring. And so I won’t go through all of these, but I will highlight one. And this is the Federal Reserve’s perception of whether or not a recession is coming. And this is an interesting point.

There is now a rising perception among Federal Reserve members, the FOMC members who vote on interest rates, that our, recession risks are rising. Right? And that’s a big change because until recently, their view was that recession risks were probably declining. So that’s a big at least for us as an investment team, we look at that and say, you know, that’s a pretty material change.

So I think that’s probably the most interesting of all the different metrics that we that we follow. That’s probably one of the most interesting. Like I showed you on the part slide, we’re not in recession today. So I don’t want anyone to leave today’s call thinking, oh my gosh.

Don said we’re in recession. No. We’re not in recession. Right? Objectively, the economy continues to grow.

But there are some clouds on the horizon, potentially. Right? So let’s, you know, let’s keep our eyes open and keep an eye on those.

So let’s talk markets. In terms of actual market returns, the market, at least through the end of June, this data is through the end of June, June thirtieth, The S and P, was up about fourteen percent.

This little red dot here and these red dots that you see, along the bottom here, that is the intra year decline in the S and P five hundred index during that particular calendar year. So the calendar years are down here along the bottom.

So earlier in the year, the S and P was down about five percent. It has since recovered and is now up about fourteen percent again through the end of June, at least as of today, at least as of yesterday, I should say. It’s up about seventeen percent for the year.

However, the gains among stocks in the S and P five hundred have not been equal. What we’ve observed is that there’s actually a very small handful of companies, very small, specifically about seven or so companies that account for the vast majority of returns in the S and P five hundred index.

Not just this year but candidly over the past year and a half. And these are these artificial intelligence type stocks like Nvidia and Microsoft and companies like that. And in fact, about fifty five percent of all the gains in the market so far this year come from just those seven stocks. And so that’s pretty, pretty significant, Right? That so so much of the return is coming from seven stocks. There’s another four hundred and ninety three stocks in the S and P five hundred index, that collectively are up about seven percent for the year, whereas these seven technology stocks are up about thirty three percent for the year. Now before we get all excited and think, gee, why don’t I own those?

Cara, we do own those. We own those stocks. We own Microsoft. We own NVIDIA. Right?

We own Alphabet. Right? We own all of those. By definition, when you own a diversified portfolio, you’re gonna own those stocks.

What’s important to keep in mind is you don’t own just those stocks, you own lots. Right? And that’s because we wanna bring down risk. Right?

We wanna manage risk. We do that through a diversified portfolio. And before you start asking, well, gee, what really are the downside risks? Seven companies sounds like maybe that’s enough.

Well, those same seven companies lost forty percent of their value in twenty twenty two, whereas the rest of the market only lost eight percent of its value. So that’s why we diversify. Right? It’s the right to to manage that downside risk.

Now over the past two weeks, we have actually seen the returns in these companies actually come down, And really, other companies, especially small cap companies. Right? These are much smaller companies, have actually begun to outperform these seven technology stocks. Well, why is that? Why is that happening?

Well, first off, the value of stocks ultimately is always about the future expected earnings growth. Nobody cares about the past. Right? And I know as investors, I’m often asked, well, Don, what did the returns look like over the past one, three, five years, or even over the past ten minutes?

The the past doesn’t matter. The market doesn’t care about the past. The market only cares about the future. Right? And what we observe what we’re observing is that the earnings projections for these seven companies are beginning to fall back in line with the same earnings growth expectation as the rest of the market. The reason why these stocks have done so well recently is that their earnings growth was a lot higher than the earnings growth of other stocks in the marketplace.

Right? So for Oh, get this a Yeah. Go ahead, Kara.

So, Don, so along those lines on the earnings on all these, we’ve got a question coming in from Richard, and and this is, I think, related to probably what you’re talking about given that we just had earnings from Alphabet and things today. You think that that has something to do with today’s tech sell off?

Well, I think it does. Absolutely. Right? Because now we have new information.

Right? As new information comes in right? Remember, stock prices change in response to new information, not old information. Only new information that we didn’t know.

Right? And so, for example, Tesla was off seventeen percent earlier today. Well, that’s because they missed. Right?

They they disappointed. Right? The market expected one thing. Tesla came in somewhere else. And that’s where the market says, you know, that’s not what I expected.

And so as a result, we’re gonna sell. Right? And so now the selling pressure outweighs the buying pressure, which is what pushes down the price of Tesla. Okay?

So you’re you’re you’re you’re you’re absolutely right, Kara. It’s the it’s the it’s the earnings expectations that drive stock prices. Right? And so it’s I think that’d be very important for our listeners to understand.

Forget the past. Whatever happened yesterday is water under the bridge. The market doesn’t care about that, and neither should we as investors. We should always look at the future.

What are the expectations?

So that’s what we’re observing. We’re observing that the future expected earnings growth for these companies is coming down in line with the market. And so what that means is that, wait a minute. Maybe we should be reallocating and owning other stocks in the market.

Right? And, before I even get to that, I wanna highlight something here. Right? Because I have oftentimes clients will ask me, Don, why do we own more than just, like, the top ten stocks in the market?

Why not just own the biggest winners and and call it a day? Right? My own grandfather used to ask me this. Right?

He what you know, from the back in the nineteen fifties, you know, they would just own the nifty fifties, the blue chips. Right? He just wanted the Dow.

Right? Well, the problem is is you always have these big winners that do really, really well, and everybody gets really excited about them. And we begin to think you know you really don’t need to own any any other stocks. Right? When I first joined this business in the mid nineteen nineties my own grandfather, an Italian immigrant, used to say, Don, you don’t need mutual funds. You only need to own General Electric. It’s like owning its own mutual fund.

Well, General Electric today is actually, not even part of the Dow Jones anymore. Okay? Right? In fact, GE today is not even a publicly traded company.

What they did is they spun off their aerospace division and that continues to be publicly traded. But GE, Sears. Right? Many of us grew up shopping at Sears.

I live in a Sears craftsman home. In the old days, you used to buy one through the Sears catalog. Right? Sears was the Amazon dot com of the twentieth century.

Sears is now bankrupt.

Right? So Sears is no longer Kmart. Right? So point being is that these big high flyers ultimately will fall from grace. Market leadership changes.

Right? Even for those of us who’ve been investing since, say, two thousand.

Remember Yahoo?

Let’s go back a little further. Remember Netscape for those of us who are a little older. Right? Those companies aren’t even around today.

Right? Google is now a verb. It owns search. So the point being is that these big high flyers ultimately fall from grace, Kara, and so you wanna be careful not to overload a portfolio on just those big high flyers.

So I made a comment a few moments ago. We’re seeing market leadership actually begin to rotate. In fact, one of the questions that came into the queue was, hey. What about small cap stocks? When are they gonna begin to carry their weight? Well, the short answer to that is, well, two two weeks ago is when they started to carry their weight. In fact, for the month of July, small cap stocks have outperformed large company stocks by about six percent.

This is the most, significant outperformance of small companies over large companies since nineteen eighty six.

Right? I was in grade school. Okay? So the the the market leadership has changed here quite a bit.

Now we may be asking, well, wait a minute. Why? Well, it’s because the market is expecting that given lower inflation print from last month and given the little uptick in unemployment and given the Fed’s perhaps rising concern that we’re entering a recession, the market is beginning to think, wait a minute. Now the Fed has a good reason to begin cutting interest rates.

And if they cut interest rates, what that means is that many of these unprofitable small cap companies will actually become profitable again.

Right? Many of these small companies have debt that is what we call floating rate. Think of a variable rate mortgage. Well, that’s what a lot of these companies have.

And so as rates come down, what that means is there’s gonna be more cash left over, which means they can now become profitable. So the market is beginning to rotate into small company stocks on the expectation that the Fed is actually perhaps now much closer to cutting interest rates. Whether or not the Fed actually does is debatable. Right?

My view at the moment is that inflation still needs to come down. The Fed has a two percent inflation target. Inflation currently is around three.

So we’re moving in the right direction. I don’t know that inflation has come down enough to justify a cut. So we will see. Not only that, I think the Fed might be a little bit hesitant to cut interest rates so close to a presidential election. But, again, we will we will see.

So I already started to answer these questions on interest rates. So this whole section’s on interest rates. What I will just highlight is that today’s interest rates are around five point five percent, five point three eight to be exact at the moment.

Both the the market and the Federal Reserve project that over the next year to two years, interest rates will come down quite a bit. Right? In fact, there’s no projection here that it’s gonna stay sideways or go up. So it’s really a question of when, not if.

And we’re expecting those interest rates to come down about two and a half percent. That’s quite a bit over the next one to two years. And so some of you have asked in your questions, well, gee, when do we think rates are gonna come down? This is really our best estimate.

Right? Is that over the next year, over the next two years, we’re gonna see rates come down. My personal view is the Fed probably would not cut interest rates until December, until after the election. I could be wrong. Maybe they cut rates in September, but I actually think December would be the earliest that the Fed would begin cutting interest rates.

There’s also a question or that that we saw, Kara, around g r. Could it be that future interest rate cuts are already priced in to stocks? I actually think the answer to that is yes. Right? The answer to that is yes. Markets price in information that we know. The market knows that the Fed is probably gonna cut interest rates over the next two years.

And so let’s before we get into the whole section on politics, Carol, let’s touch on the federal budget. It is an election season. I I wish our candidates were talking more about policy and budgets and less about some of these other things.

Our government today spends nearly seven trillion dollars per year. Now we can debate is that too much, is that too little, that’s a political debate.

What’s not political, what is true, is that about forty percent, actually, almost fifty percent of our budget alone goes towards Social Security and Medicare and Medicaid.

And when we include defense spending, it’s even more. Right? So over fifty percent. Actually, when we look at the federal budget, there’s actually not a lot of discretionary spending. It’s actually quite low as a percentage of the total budget.

So this is how much we spend. Here’s how much is coming in. Right? So for all of us who used to balance checkbooks I don’t know if too many people do that today, but balancing checkbooks, going through the ledger.

Right? Well, what we see is that we actually have a pretty big shortfall, right, in terms of tax collections. Right? So we’re actually collecting about five trillion in taxes annually, but there’s a shortfall.

So we have to get out our credit card and issue more bonds, more debt to the tune of almost two trillion dollars per year. This is a lot. I would argue it’s actually unsustainable.

So bottom line here is we spend more than comes in.

There’s a debate. Do we cut spending? Do we increase taxes? That’s why we have elections. All of us, I’m sure, have our views. Kara, one of the big questions in the queue that we saw was, gee, what’s what are the policy differences perhaps between the two parties with respect to the economy and how that might impact markets?

Well, president Trump has committed to extending TCJA, the Tax Cut and Jobs Act of, I wanna say, two thousand seventeen. I think that’s when that was signed.

If we do that and if we don’t cut spending to offset the extension of those tax cuts, what it means is that the federal deficit will actually grow. And what it means is our debt and the interest on our debt will grow.

Alright. So that is objectively true. These are congressional budget office estimates. This is not meant to be political.

It is objectively true that if we extend those tax cuts, that will negatively impact the deficit and the debt. That assumes we don’t cut spending elsewhere, and I would argue that congress doesn’t have a very good track record when it comes to actually cutting spending. So that’ll be interesting to see, whether or not, the the Republicans, should they win in November, whether or not they would actually cut spending to offset the extension of these tax cuts. Tara, you’re probably closer to these taxes than I am, so maybe you can walk our audience through, like, what are we really talking about?

Absolutely. And and I think, specifically, we’ve we’ve had a couple of questions. Edward asking about what happens with, the tax changes. So as all of you know, the, the TCJA that was enacted as Dawn referenced actually sunsets, starting January first of twenty twenty six, and I think that’s maybe an important thing to talk about.

This is the law. This is going to happen on January first of twenty twenty six. Regardless of what happens in the election here in November, unless Congress enacts a law and is signed by the president, this is going to happen. So they they very well may pass a law in twenty twenty five that will change this, but I think it’s important to keep in mind that the election election doesn’t influence tax policy, what actually the laws on the books are.

So they’re important things that I think, each of you should work through with your adviser on your tax planning because they’re significant things. In particular, the reduced tax practice and the high standard deduction is going away in twenty twenty six. So you need to look at where that lands you in your tax brackets.

For estate planning, if you’ve listened to any of our broadcast about that or talked with your advisor about estate planning, we have a currently a thirteen point six million dollar estate and gift tax exemption.

And you need if you are above that amount in your total net worth, you need to be thinking now on if you wanna do some gifting because if you wait until December of twenty twenty five, there’s not gonna be time to do that when this sun sets. So make sure that you’re taking advantage of that.

And then some of the other things that may apply to, each of you personally, the SALT cap. SALT stands for, it is your state and local tax. So things like if you live in a high income tax state, I live in California, it’s always on the top of that list, or you have high property taxes, you you were limited to only taking ten thousand dollars worth of deduction on your federal tax return even if you paid more than that to your state or in property tax. So starting in twenty twenty six, that goes away, and you are you would get your full state or local income tax deduction back on, your federal tax returns. There are several other things here that are listed that are more related to business, whether it’s the qualified business interest deduction, the corporate tax rates, r and d.

Those are things and the bonus depreciation that you wanna talk through in your particular case with your adviser, but these are pretty significant things that are going to be changing in tax law with that tax reform sunset in twenty twenty six. So your adviser can certainly help you with more detailed projections if you want that, but those are important things to know. And we did get quite a number of questions about that.

Great. Thank you, Karen. Yeah. Some pretty some pretty important changes on the horizon. But I think as you rightly point out, this today is a matter of the law.

Right? These aren’t policy proposals from either candidate. Yeah. Trump has suggested that he is in favor of extending these, now Kamala Harris, probably in favor of allowing TCGA to to expire.

So, at the end of the day, I still come back to the simple arithmetic that we have a massive imbalance between government spending and the taxes that come in. And before we leave this topic, Carol, I’ll just touch on Social Security. We did have a question on the here.

One from Okay. One from Jack, and we’ve got a quite a bit of a Doreen, Steve. So good time to talk about that.

Let’s let’s tackle it while we’re on it. So why don’t why don’t you why don’t you ask Jack or or someone’s question there, and we’ll we’ll tackle it.

Yeah. So the questions are just, do you think Social Security and Medicare will be cut?

Well, I would say it’s it’s it’s true that come twenty thirty four, there will the the solvency Social Security and Medicare will become insolvent in twenty sometime around twenty thirty four. Meaning so what exactly does that mean? Right? Insolvent does not mean that they can’t pay any benefits. What it means is they cannot pay a hundred percent of promised benefits under the current formulas that we have in place.

At least according to a study that I read yesterday to prepare for today’s call, come twenty thirty four, assuming no tax increases and no changes to these programs between now and twenty thirty four, there will be an immediate twenty percent reduction in benefits. There just mathematically, there would have to be.

Now that assumes no changes. I would hope that our elected officials, you know, get the adults in the room. Let’s try to let’s try to tackle this for the benefit of all Americans.

So assuming no tax increases, assuming no changes to those programs, my understanding is just based on all the actuarial actuarial assumptions, it is objectively true there will be a twenty percent cut come twenty thirty four or sometime around there. Could be a couple years earlier depending on economic growth, could also be a few years delayed depending on economic growth and inflation and things like that.

But, Don, before we move off of this TCGA slide, we have a question from Jim about if the TCJA portion of corporate tax expires, so that means corporate rates go up, how hard do you feel that would impact the markets?

I do think that would impact markets. It’s always a little difficult to say, well, gee, by how much. Right? I think it depends on where does it go to. Now, again, you point out as a matter of law, that piece is permanent.

So that would be unexpected. Right? Remember what I was saying earlier that markets respond to unexpected news. Right?

So that would be unexpected, and I do think that that would negatively impact markets, all other things being equal, which is a little bit of a dangerous footnote because nothing in this world remains equal. Things are always changing, interest rates, valuations, investors’ appetite for risk. But if you could hold everything on planet Earth constant for a second, and then just raise the corporate income tax rate, I think it’s objectively true that, yeah, that’s gonna put downward pressure on stock prices. Probably not significantly so, but that’s debatable.

Right? What is significant? Is it a five percent decline? Is it a ten percent decline?

Doesn’t change the fact that higher tax rates would negatively impact, the value of investments.

That we know for sure.

Okay?

So any other questions there, Cara, that we wanna tackle before we move on?

No. I think just some comments. And maybe to clarify, we do have one question about, that state and local imp tax deduction.

Note that that didn’t mean that the states got to limit the amount of tax that that you paid. I still paid the full amount to the state of California that I was going to pay. I just had I only got a a limited amount of deduction on my federal tax return. So it did not imply that I only paid California ten thousand dollars.

So just wanted to clear that up in case anyone was confused by that. Right. So, no, Don. Let let’s move on and and talk about the, inflation coupons because I see a whole bunch of questions about those. Beverly, Tom, Clay, this is a popular one.

Okay. So, yeah, definitely a hot topic here during this election season.

So let’s just look at inflation. What has actually happened over the past couple of years?

Well, remember, it was actually in April of twenty twenty one when we started to see inflation really tick up quite a bit. It peaked in June of twenty twenty two. It peaked at over nine percent.

Nine percent. It has since come down quite dramatic since then, but the declines in the growth in prices has started to level off here this year. In fact, this is one of the reasons why the Fed has been a little slower and more hesitant to cut interest rates, more so than we originally thought. We thought coming into the year, the Fed was gonna move a lot quicker and cut interest rates more and deeper.

There have been no interest rate cuts this year. So the Fed has been looking at these inflation rates and saying, no. These are still too high.

Inflation has since come down overall to around three percent year over year growth. So, again, inflation, disinflation, we’re talking about the rate of change in the growth rate of prices.

So this does not mean that the prices at the grocery store have come down. Just means that they’ve stopped rising as quickly as they once were. Now when we look a little bit closer at the data, Kara, what we see is we are seeing some deflation.

This is when prices actually start to come down. So we’re seeing deflation in core goods. Now remember earlier, I showed you that manufacturing number of about forty eight point seven that kinda suggested maybe a little bit of a recession in the manufacturing sector.

That could be true. Right? Think of, like, the price of toasters.

Right, or something like that, that we’re seeing some pricing pressure there. I think where we all wanna see it is at the grocery store and at the gas pump. We’re just I know we haven’t seen that yet. But this is where we’re at with respect to inflation today.

Naturally, both sides of the political divide are gonna point fingers at one another. I would say that inflation is a very complex phenomenon.

I don’t believe it’s a result of, directly a result of government spending. I think these things are a bit more complicated. I don’t think this is necessarily a result of corporate price gouging and some of these accusations that get leveled across the political divide. I think this has more to do with massive supply chain disruption and pent up demand coming out, of the wake of of COVID. So Not all we’re talking The candidates are gonna point fingers.

Yeah. Very popular thing to point fingers about for sure. While we’re kind of talking about inflation and economics about that, we’ve got a question from Richard about is stagflation a threat?

Well, stagflation would be high inflation.

Right? High unemployment and and low or negative economic growth. We actually don’t see all of that currently. I think it’s always a concern.

Right? And I think, policymakers, the Federal Reserve, I mean, naturally, we need to pay attention to those things. We haven’t seen stagflation candidly since the late nineteen seventies. Right?

But it was enormously painful, and I think that that is really imprinted on our collective psyche. And I think, you know, Richard is right to to ask the question. It’s one of the things I’m always curious about is are we gonna see high inflation and low economic growth or high unemployment?

Objectively, unemployment is low. It’s still close to fifty year lows at the moment. Now we can debate underemployment and the different measures of unemployment, but at the end of the day, unemployment is is very low. So at the moment, it doesn’t look like stagflation is on the horizon.

Great. Thanks.

Any other inflation questions we wanna touch on?

There’s a few, but I’m seeing far more of them about elections. So, maybe we should move on to that so we can cover that. Lots of questions about which which candidate would be better, how does it work, or how the market’s affected by elections, and who’s in control. So maybe just a good overview here, Don, would cover a lot of these questions.

So I always like to first look at data, and then I will provide my thoughts here. And, Kara, we’re gonna we’re gonna do our best to thread the needle here and make sure we don’t upset our our listeners. Let’s start with the economy. Who is better, quote unquote, for the economy?

Well, here’s the data going back to nineteen forty seven.

Lot of data. Right? We we can debate given years and, you know, but at the end of the day, when we look at economic growth, real GDP means inflation adjusted. So after we strip out inflation, how much did the economy grow in purchasing power?

Well, under Republicans, it has grown an average of two point eight percent when Republicans had total control. That means they controlled both chambers of Congress, and they controlled the White House.

When Democrats controlled both chambers of Congress and the White House, the economy actually grew at four percent. So four percent is higher than two point eight. So for all of my Democratic friends out there, here’s a talking point that you can take to your Thanksgiving dinner parties that Democrats, in theory, have perhaps been better for the economy.

Now when government was divided, the economy grew at about two point seven percent. And most of the time, meaning sixty one percent of the time, government is divided. Right?

Rarely does one party control all the different branches branches of government. Right? The two chambers plus the White House.

So now for my Republican friends, let’s ask ourselves a different question. Who is better for investors? Who’s better for the stock market? Well, under Republicans, the stock market has grown an average of twelve point nine percent annually.

Pretty good. And under Democrats, it grew at nine point three percent. So, again, I I I what I love about this slide is there’s a data point here for both sides of the political divide.

Republicans, under Republicans markets have done better.

Under Democrats, the economy has done better. So you may be thinking yourself, well, Don, I don’t know what to do with that. You know? Like, we’re trying to reconcile that with our political beliefs.

What I would say is that I think it’s at the end of the day, it’s ultimately irrelevant which party controls which branches of government. And I know that’s perhaps not what we all wanna hear. I know I don’t always wanna hear that. You know, I have my views, Kara, I know you have your views.

But at the end of the day, it’s it’s true that capitalism works regardless of who is in the White House, over time, markets have been upward sloping. The US economy has continued to grow. If we go back to, tax rates under president John f Kennedy, Kara, I believe the marginal income tax rate when he came into office was ninety one percent. Now it was a very different tax code.

Right? I’m not gonna get into the particulars.

But, you know, JFK, I would argue by today’s standards, would probably be a Republican if you actually look at his policy positions, which brings me to another point. I think this data, it’s really hard to draw conclusions from because if we look at the tax policies or perhaps the the trade policies of Bill Clinton, Bill Clinton, I would argue, was more a proponent of free markets, a traditionally Republican policy platform item, than, say, Donald Trump, who has been more, an advocate of tariffs and more protectionist policies.

So at the end of the day dive can we dive into that a little?

There’s a question from Lucy about tariffs in particular and how that affects the economy and so forth. It certainly come up a lot in the in in the, election debate. Can you kinda dive into that a little bit?

Yeah. So let’s think about what tariffs are. Right? It’s a tax on goods that are being imported into the United States to be sold to our citizens, to be sold to us, to our friends, and our neighbors. Okay? So think about what that means. You know, in Pennsylvania, we have the highest tax, gas taxes in the whole country.

Consumers pay those taxes. So it is a it is objectively true economically.

Right? This is sort of an economics one zero one concept that if the US is going to levy tariffs on, say, Chinese imported goods, that will push up prices for all of us. We pay the tariff. That is like I said, that’s economics one zero one.

Think about what that means. Tariffs then are actually inflationary.

Right? Because they’re gonna push up prices.

Right? Now we can debate, is that a good thing, a bad thing? You know, there’s geopolitical considerations here, right, in terms of, you know, do we wanna be importing technology from China, for example?

You know, so there’s a lot more that goes into this. Naturally, the government would be raising revenue, so it’s a form of taxation.

But let’s let’s not be confused. We pay those higher prices. Those higher prices would absolutely be inflationary.

Whether you think that’s good or bad, I think is is is for all of us to decide independently as voters, but mathematically, that’s that’s what would happen.

K?

Great.

So Thanks.

Alright?

But, Kara, I think this begs another point, and that is we should be very careful of consuming, or taking a lot of these economic talking points from political candidates at face value. Right? So I think you have to dig a little deeper and ask yourself, wait a minute. Is this really true, or is there is this or is there more to the story?

K?

That’s great advice, Don.

So, Kara, why don’t we stop here? I wanna make sure we have lots of time for more q and a. I I think we’ve touched on I know we’ve been answering questions throughout here, but why don’t we just stop here and and do a little bit more q and a?

Absolutely. So I’ve I’m seeing a lot of questions here, Dawn, about, about the, deficit. So at at what point obviously, we people are concerned about the deficit. What point do you think that that would really, start to affect?

And we’ve got questions from here from Charles. I see another question from Ben. Just about, is there a dollar amount? Or in theory, kinda what are you thinking that the national debt results in a decline a significant decline in our economy?

Yeah. It’s a tough question that, candidly, there are no good answers for. First off, the the the debt. So the the deficit is the shortfall in any one year.

The federal debt is the total sum of all prior deficits that have been financed by the federal government.

If you look at the US’s debt relative to our GDP, that’s our income. That’s essentially what I’m talking about here is our debt to income ratio. Right? We’re we’re just at about ninety seven, ninety eight percent currently, which puts us pretty much on average with other developed market economies.

So think Western Europe, Japan, all these other countries, you know, averaged together. Japan has the highest debt to income, ratio. I think, I I forget where they’re at at the moment because it’s been changing quite a bit here recently, but was well north of two hundred and forty, two hundred and fifty percent. I’d I’d have to double check on the exact number, But they were objectively, they were the highest. Okay?

And that really has weighed on Japanese economic growth for a long time, and it’s certainly weighed on their financial markets for a very long time.

So I don’t know what the actual threshold point is where, g, you know, the market will start to decline or the US economy will continue to suffer. What I would say is we don’t wanna know. We don’t wanna find out. We don’t wanna play chicken with our debt to GDP ratio. Right? So we should be very careful about that as a country.

Ninety eight percent, I do think, is alarming. I think it’s very high. Right? So I think that’s a concern. What I would say is every dollar that the federal government has to borrow is a dollar that is borrowed from the future.

It has to be paid back plus interest. And so if you look at our debt today, which is over thirty trillion dollars, that represents thirty trillion dollars plus the interest that we pay, which is almost a trillion dollars in interest annually right now. Those are dollars that otherwise aren’t available now to spend on defense, on shoring up Social Security or Medicare, or to fund education.

Right? Or to fund, you know, veterans benefits, things like that. So, you know, there are opportunity costs here from an economic perspective.

I would argue the federal debt the federal debt is already weighing on economic growth because of the opportunity cost now. Right? Those that’s a trillion dollars we’re spending on interest payments that otherwise the federal government does not already does not have and can’t spend on other on other goods and services for all of us as citizens. So I think it is weighing.

I don’t know what you know, back to the to to our to our client’s question. I don’t know what the magic number is. We just say we don’t wanna find out, so we should be very careful.

That’s great, Don.

More lots of questions about inflation. But in particular, we have a question about how does the money supply influence inflation from James?

Yeah. So inflation is when you have too many dollars chasing too few goods and services.

And so, naturally, if you have a a larger money supply, you have more cash pumped into the economy. You have more dollars in theory.

Lot of theory here, James.

In theory, you have more dollars now chasing the same number of goods. And so in theory, if the money supply expands, you should have inflation. This is classic, Milton Friedman, professor from the University of Chicago, my alma mater, classic Chicago School of Economics would say, well, if you ex expand the money supply, you should have inflation. And for so long, we thought it was a law of physics that it had to be true. However, And for so long, we thought it was a law of physics that it had to be true. However, the Federal Reserve printed four and a half trillion dollars between two thousand and nine and twenty fifteen, and we had virtually no inflation.

In fact, during that period of time, we were more worried about deflation.

So I think it’s important to highlight that there have been very material and very long periods of time where we have actually tested this proposition that an increase in the money supply should automatically lead to inflation, and it didn’t happen.

It didn’t happen. I do think that the current inflation is in part related to the Federal Reserve expanding the money supply to combat COVID. So I think that that naturally has contributed to some to some degree the inflation that we’ve experienced here shortly. But what I would just say is we should be very careful.

Economics has no laws of physics. Right? So the the best we have are what we think are logical relationships.

Sometimes those relationships don’t hold. And from two thousand nine to two thousand fifteen, that relationship did not hold.

Well, talking some more about the Fed and the balance sheet, we’ve got a question about if any you have any insight on why the Fed reduced the pace of the balance sheet runoff in June. Just curious about, commenter says they think it’s good the balance was reduced. Just curious about why the pace slowed down.

That’s a very sophisticated question. That’s a very sophisticated, listener.

What so what I would say is I think the Fed was taking their foot off of the brake. It was their way of basically cutting interest rates without telling the world that they were cutting interest rates. Right? Because if you think about it, what’s happening as the balance sheet reduces, the Fed owns bonds, and those bonds are being repaid. They take those digital dollars, and they go into their little magic spreadsheet, and they delete the dollars. So what they were doing is they were shrinking the money supply.

They stopped shrinking the money supply in June. And I think that was their way of taking their foot off the brake a little bit before actually engaging in interest rate cuts, which tells me that the Fed believes that we’re pretty close to that point where it’s time to pivot and and allow the allow the, allow interest rates to come to come down a little bit. Right? So it’s that’s just another way for the Fed to bring down rates without actually cutting interest rates.

Great.

Now to change directions here a little bit, Don, and talking about the tech stocks. You talked about the Magnificent Seven, how we’re seeing kind of a change in that sector.

So from question from Jerome and similar question from Reza.

How do you participate in investing in tax stocks when investing in individual stocks seems risky?

Great question. So the the it is absolutely true that investing in a handful of individual stocks is absolutely risky. It’s riskier than it needs to be. You don’t need to do that. The best way to do that is by way of a diversified portfolio that already owns those stocks. And remember, these seven stocks already make up about thirty six percent of the entire S and P five hundred index just based on their value.

So, Cara, just by owning a diversified Mercer Advisors portfolio, you already have a very healthy allocation to those stocks, but the nice thing is that you don’t own just those stocks. You know, I I commented on this pretty significant rotation into small cap stocks here over the past two weeks. The great thing is we already owned those. Right?

We didn’t have to try to time the market. We were already diversified into those. So, you know, despite the fact that Tesla’s down today, well, we own a lot of other companies in the portfolio that are doing just fine. Right?

So that’s gonna help cushion this, you know, seventeen percent sell off in Tesla from earlier this morning. So though that’s the right way to do it is to maintain a very, very well diversified portfolio. You don’t have to load up on ten stocks or twenty stocks. You wanna own lots of asset classes and lots of stocks.

Well, speaking of diversification, now we’ve still got a lot more questions about that. So we’ve got a question from John and a similar question from Steve about emerging markets. And so thinking about, what emerging market would be, how are your thoughts on that in terms of reallocating going forward to increase diversification, sort of the bricks versus the US?

Yeah. I mean, we we are we are proponents of emerging markets diversification, so let’s just start with that. Now why would we own emerging markets? Why would we invest in emerging markets?

Well, first off, if you just look at economic growth on planet Earth in the years ahead, remember, as investors, we’re focused on the future.

Economic growth in places like India and Southeast Asia is going to be continue to be a lot higher than it is in the United States and Western Europe, just based on simple demographics. Right? Our our population growth is very low. In places like India and Southeast Asia, it’s much, much higher. So those markets are growing very rapidly.

And so just as a from from an investment thesis perspective, those are great places to invest when you have rapidly growing economies.

To take it a few steps further, in terms of valuations, US stocks today traded about twenty one times earnings.

And this is a number where lower is better. Right? You don’t wanna pay you don’t want higher, you want lower. If you look at that same metric for emerging market stocks, it’s about twelve times earnings. So what that means is emerging market stocks dollar for for for every dollar of profits actually trade at about a fifty percent discount relative to the same dollar of profits in the United States. So on a valuation basis, those are very attractive. Now let’s take it one step further, Cara.

If you are concerned that the value of the US dollar may come down, forget collapse and forget all the doomsday scenarios. But if you just think it’s gonna soften and come down in the years ahead, well, owning non US assets is a very classic time tested way to hedge against a decline in the value of the US dollar. So I think there’s a lot of good reasons to own emerging market stocks personally.

And I’m gonna take a one more on diversification here. Got a question from Barry about can you talk about how does private equity have a place in a diversified portfolio?

So we are I am a huge proponent of private markets broadly, which includes private equity, venture capital, private credit.

You know, if we actually just look at public markets for a moment, only one fifth of all of the investment opportunities on the planet are actually publicly traded.

To say that a little differently, there’s a significant opportunity to diversify beyond public markets by owning private investments.

Now there’s a lot of regulations here, Kara. The SEC has strict requirements in place in terms of which vest investors qualify to invest in different types of investments.

We won’t get into that here, but I I I think owning private investments, is a nice way to add more diversification to an otherwise, publicly, public investment portfolio. So what it really does is it gives you access to the full global economy, not just those companies that are publicly traded.

Private investments, on from Sarah. And she says, with the prime political election season coming up, how do we think about markets? How do we think about our portfolios going forward? And are there any actions that need to be taken?

Well, assuming that you’ve already built a diversified portfolio, assuming you already have a financial plan, assuming that you’re already rebalancing your portfolio and doing all the things that as investors we should do because it’s just good investment behavior. Assuming you’ve done all those things, what I would say is I’ll tie it back to a comment I made a little while ago, is I think when we look at the data over the past century, regardless of which party controlled congress, regardless of which party controlled the White House, markets and the US economy have done well. And so I think my parting advice here, and I know this is very hard in the current environment, would be to keep politics out of your portfolio.

Right? If we look at just the market under the Trump administration from two thousand seventeen to to twenty twenty one, And if we look at the market returns under the Biden administration, markets have done well. Now there were bumps in there. Right? Trump had to deal with COVID, March of twenty twenty.

Biden had to deal with this inflation shock. But at the end of the day, markets have done well. The US economy has done well. And, again, I know that’s not what a lot of us wanna hear. We wanna hear that our candidate is is best.

I think the best advice I can give you is keep politics out of your portfolio and be very discerning consumers of information that both parties are sharing with you because I can assure you that it’s probably incomplete or possibly even untrue. And I hate to say that, but when it comes to economics, rarely is there one simple, easy talking point or answer to all of these challenges that we have as a society.

I think that’s great advice, Don. I we’ve got so many more questions in the queue, but I know that we’re out of time. So if we haven’t gotten to your question, we do record them, and we will be sharing them with your adviser, for our Mercer advisers clients so that we can continue to have this conversation as well. Additionally, this broadcast is being recorded.

So you will find, the broadcast on mercer advisors dot com under our insights page, and it will be posted in about three business days for you to be able to listen again and access this recording.

So thank you all for joining us.

Thank you for the engage and the questions as well.

Thank you, everybody.

Bye bye.